Question 1

Which of the following statements is most correct?

Accepted Answer

A)  If credit sales as a percentage of a firm's total sales increases, and the volume of credit sales also increases, then the firm's accounts receivable will automatically increase. 
B)  It is possible for a firm to overstate profits by offering very lenient credit terms which encourage additional sales to financially "weak" firms. A major disadvantage of such a policy is that it is likely to increase uncollectible accounts. 
C)  A firm with excess production capacity and relatively low variable costs would not be inclined to extend more liberal credit terms to its customers than a firm with similar costs that is operating close to capacity. 
D)  Firms use seasonal dating primarily to decrease their DSO. 
E)  Seasonal dating with terms 2/15, net 30 days, with April 1 dating, means that if the original sale took place on February 1st, the customer can take the discount up until March 15th, but must pay the net invoice amount by April 1st. 
A)  If credit sales as a percentage of a firm's total sales increases, and the volume of credit sales also increases, then the firm's accounts receivable will automatically increase. 
B)  It is possible for a firm to overstate profits by offering very lenient credit terms which encourage additional sales to financially "weak" firms. A major disadvantage of such a policy is that it is likely to increase uncollectible accounts. 
C)  A firm with excess production capacity and relatively low variable costs would not be inclined to extend more liberal credit terms to its customers than a firm with similar costs that is operating close to capacity. 
D)  Firms use seasonal dating primarily to decrease their DSO. 
E)  Seasonal dating with terms 2/15, net 30 days, with April 1 dating, means that if the original sale took place on February 1st, the customer can take the discount up until March 15th, but must pay the net invoice amount by April 1st. B

Question 2

Viking Farms harvests crops in roughly 90-day cycles based on a 360-day year. The firm receives payment from its harvests sometime after shipment. Due in part to the firm's rapid growth, it has been borrowing to finance its harvests using 90-day bank notes on which the firm pays 12 percent discount interest. If the firm requires $60,000 in proceeds from each note, what must be the face value of each note?

Accepted Answer

A)  $61,856 
B)  $67,531 
C)  $60,000 
D)  $68,182 
E)  $67,423 
A)  $61,856 
B)  $67,531 
C)  $60,000 
D)  $68,182 
E)  $67,423 A

Question 3

East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy. The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5 percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The variable cost percentage is 60 percent, and the cost of capital is 15 percent.
-What would be the incremental bad losses if the change were made?

Accepted Answer

A)  $315,000 
B)  $260,500 
C)  -$260,500 (bad debt losses would decline) 
D)  -$315,000 (Bad debt losses would decline) 
E)  $ 0 (no change would occur) 
A)  $315,000 
B)  $260,500 
C)  -$260,500 (bad debt losses would decline) 
D)  -$315,000 (Bad debt losses would decline) 
E)  $ 0 (no change would occur) D

Question 4

You have just taken out a loan for $75,000. The stated (simple) interest rate on this loan is 10 percent, and the bank requires you to maintain a compensating balance equal to 15 percent of the initial face amount of the loan. You currently have $20,000 in your checking account, and you plan to maintain this balance. The loan is an add-on installment loan which you will repay in 12 equal monthly installments, beginning at the end of the first month.
-What is the nominal annual add-on interest rate on this loan?

Accepted Answer

A)  10.00% 
B)  16.47% 
C)  18.83% 
D)  20.00% 
E)  24.00% 
A)  10.00% 
B)  16.47% 
C)  18.83% 
D)  20.00% 
E)  24.00%

Question 5

Assume you borrow $12,000 from the bank using a 10.19 percent "add-on", one-year installment loan, payable in four equal quarterly payments. What is the effective annual rate of interest?

Accepted Answer

A)  9.50% 
B)  10.19% 
C)  15.99% 
D)  16.98% 
E)  20.38% 
A)  9.50% 
B)  10.19% 
C)  15.99% 
D)  16.98% 
E)  20.38%

Question 6

What are the incremental pre-tax profits from this proposal?

Accepted Answer

A)  $283,750 
B)  $250,500 
C)  $303,250 
D)  $493,750 
E)  $288,250 
A)  $283,750 
B)  $250,500 
C)  $303,250 
D)  $493,750 
E)  $288,250

Question 7

Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent discount interest loan or a 10.19 percent add-on, one-year installment loan, payable in 4 equal quarterly payments. What is the effective rate of interest on the 10.19 percent add-on loan?

Accepted Answer

A)  9.50% 
B)  10.19% 
C)  15.22% 
D)  16.99% 
E)  22.05% 
A)  9.50% 
B)  10.19% 
C)  15.22% 
D)  16.99% 
E)  22.05%

Question 8

The percentage aging schedule of accounts receivable is the most robust way to see if customers are, on average, paying more slowly, because it is unaffected by seasonal changes in sales.

Accepted Answer

A) True 
 B)False

Question 9

Which of the following is not correct?

Accepted Answer

A)  Collection policy is how a firm goes about collecting past-due accounts. 
B)  A more aggressive collection policy will reduce bad debt expenses, but may also decrease sales. 
C)  Collection policy usually has little impact on sales since collecting past-due accounts occurs only after the customer has already purchased. 
D)  Typically a firm will turn over an account to a collection agency only after it has tried several times on its own to collect the account. 
E)  A lax collection policy will frequently lead to an increase in accounts receivable. 
A)  Collection policy is how a firm goes about collecting past-due accounts. 
B)  A more aggressive collection policy will reduce bad debt expenses, but may also decrease sales. 
C)  Collection policy usually has little impact on sales since collecting past-due accounts occurs only after the customer has already purchased. 
D)  Typically a firm will turn over an account to a collection agency only after it has tried several times on its own to collect the account. 
E)  A lax collection policy will frequently lead to an increase in accounts receivable.

Question 10

A firm's credit policy consists of which of the following items?

Accepted Answer

A)  Credit period, cash discounts, credit standards, receivables monitoring. 
B)  Credit period, cash discounts, credit standards, collection policy. 
C)  Credit period, cash discounts, receivables monitoring, collection policy. 
D)  Cash discounts, credit standards, receivables monitoring, collection policy. 
E)  Credit period, receivables monitoring, credit standards, collection policy. 
A)  Credit period, cash discounts, credit standards, receivables monitoring. 
B)  Credit period, cash discounts, credit standards, collection policy. 
C)  Credit period, cash discounts, receivables monitoring, collection policy. 
D)  Cash discounts, credit standards, receivables monitoring, collection policy. 
E)  Credit period, receivables monitoring, credit standards, collection policy.

Question 11

The collection process, although sometimes difficult, is also expensive in terms of out-of-pocket expenses.

Accepted Answer

A) True 
 B)False

Question 12

Seligstine, Inc.'s DSO was 31 days in March, and 45 days in April. Which of the following is NOT possible?

Accepted Answer

A)  Sales increased from March to April. 
B)  Sales decreased from March to April. 
C)  May's quarterly uncollected balances schedule showed a higher percent of April's sales as uncollected than for March. 
D)  May's quarterly uncollected balances schedule showed a lower percent of April's sales as uncollected than for March. 
E)  All of the above are possible. 
A)  Sales increased from March to April. 
B)  Sales decreased from March to April. 
C)  May's quarterly uncollected balances schedule showed a higher percent of April's sales as uncollected than for March. 
D)  May's quarterly uncollected balances schedule showed a lower percent of April's sales as uncollected than for March. 
E)  All of the above are possible.

Question 13

You have just taken out a loan for $75,000. The stated (simple) interest rate on this loan is 10 percent, and the bank requires you to maintain a compensating balance equal to 15 percent of the initial face amount of the loan. You currently have $20,000 in your checking account, and you plan to maintain this balance. The loan is an add-on installment loan which you will repay in 12 equal monthly installments, beginning at the end of the first month.
-Suppose you borrow $2,000 from a bank for one year at a stated annual interest rate of 14 percent, with interest prepaid (a discounted loan). Also, assume that the bank requires you to maintain a compensating balance equal to 20 percent of the initial loan value. What effective annual interest rate are you being charged?

Accepted Answer

A)  14.00% 
B)  8.57% 
C)  16.28% 
D)  21.21% 
E)  28.00% 
A)  14.00% 
B)  8.57% 
C)  16.28% 
D)  21.21% 
E)  28.00%

Question 14

Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent discount interest loan or a 10.19 percent add-on, one-year installment loan, payable in 4 equal quarterly payments. What is the effective rate of interest on the 12 percent discounted loan?

Accepted Answer

A)  10.7% 
B)  12.0% 
C)  12.5% 
D)  13.6% 
E)  14.1% 
A)  10.7% 
B)  12.0% 
C)  12.5% 
D)  13.6% 
E)  14.1%

Question 15

Judy's Fashions, Inc. purchases supplies from a single supplier on terms of 1/10, net 20. Currently, Judy takes the discount, but she believes she could extend the payment to 40 days without any adverse effects if she decided not to take the discount. Judy needs an additional $50,000 to support an expansion of fixed assets. This amount could be raised by making greater use of trade credit or by arranging a bank loan. The banker has offered to loan the money at 12 percent discount interest. Additionally, the bank requires an average compensa¬ting balance of 20 percent of the loan amount. Judy already has a commercial checking account at this bank which could be counted toward the compensating balance, but the required compensating balance amount is twice the amount that Judy would otherwise keep in the account. Which of the following statements is most correct?

Accepted Answer

A)  The cost of using additional trade credit is approximately 36 percent. 
B)  Considering only the explicit costs, Judy should finance the expansion with the bank loan. 
C)  The cost of expanding trade credit using the approximation formula is less than the cost of the bank loan. However, the true cost of the trade credit when compounding is considered is greater than the cost of the bank loan. 
D)  The effective cost of the bank loan is decreased from 17.65 percent to 15.38 percent because Judy would hold a cash balance of one half the compen¬sating balance amount even if the loan were not taken. 
E)  If Judy had transaction balances that exceeded the compensating balance requirement, the effec¬tive cost of the bank loan would be 12.00 percent. 
A)  The cost of using additional trade credit is approximately 36 percent. 
B)  Considering only the explicit costs, Judy should finance the expansion with the bank loan. 
C)  The cost of expanding trade credit using the approximation formula is less than the cost of the bank loan. However, the true cost of the trade credit when compounding is considered is greater than the cost of the bank loan. 
D)  The effective cost of the bank loan is decreased from 17.65 percent to 15.38 percent because Judy would hold a cash balance of one half the compen¬sating balance amount even if the loan were not taken. 
E)  If Judy had transaction balances that exceeded the compensating balance requirement, the effec¬tive cost of the bank loan would be 12.00 percent.

Question 16

Wentworth Greenery harvests its crops four times annually and receives payment for its crop 90 days after it is picked and shipped. However, the firm must plant, irrigate, and harvest on a near continual schedule. The firm uses 90-day bank notes to finance its operations. The firm arranges an 11 percent discount interest loan with a 20 percent compensating balance four times annually. What is the effective annual interest rate of these discount loans?

Accepted Answer

A)  11.00% 
B)  15.94% 
C)  11.46% 
D)  13.75% 
E)  12.72% 
A)  11.00% 
B)  15.94% 
C)  11.46% 
D)  13.75% 
E)  12.72%

Question 17

You have just taken out a loan for $75,000. The stated (simple) interest rate on this loan is 10 percent, and the bank requires you to maintain a compensating balance equal to 15 percent of the initial face amount of the loan. You currently have $20,000 in your checking account, and you plan to maintain this balance. The loan is an add-on installment loan which you will repay in 12 equal monthly installments, beginning at the end of the first month.
-How large are your monthly payments?

Accepted Answer

A)  $6,250 
B)  $7,000 
C)  $7,500 
D)  $5,250 
E)  $6,875 
A)  $6,250 
B)  $7,000 
C)  $7,500 
D)  $5,250 
E)  $6,875

Question 18

Berkeley Prints expects to have sales this year of $15 million under its current credit policy. The present terms are net 30; the days dales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5 percent. Also, Berkeley's cost of capital is 15 percent, and its variable costs total 60 percent of sales. Since Berkeley wants to improve its profitability, a proposal has been made to offer a 2 percent discount for payment within 10 days; that is, change the credit terms to 2/10, net 30. The consultants predict that sales would increase by $500,000, and that 50 percent of all customers would take the discount. The new DSO would be 30 days, and the bad debt loss percentage on all sales would fall to 4 percent.
-What would be the cost to Berkeley of the discounts taken?

Accepted Answer

A)  $116,750 
B)  -$108,750 
C)  $155,000 
D)  $225,000 
E)  $260,500 
A)  $116,750 
B)  -$108,750 
C)  $155,000 
D)  $225,000 
E)  $260,500

Question 19

Bass Boats Inc. currently has sales of $1,000,000, and its days sales outstanding is 30 days. The financial manager estimates that offering longer credit terms would (1) increase the days sales outstanding to 50 days and (2) increase sales to $1,200,000. However, bad debt losses, which were 2 percent on the old sales, would amount to 5 percent on the incremental sales only (bad debts on the old sales would stay at 2 percent). Variable costs are 80 percent of sales, and Bass has a 15 percent receivables financing cost. What would the annual incremental pre-tax profit be if Bass extended its credit period?

Accepted Answer

A)  -$20,000 
B)  -$10,000 
C)  $ 0 
D)  $10,000 
E)  $20,000 
A)  -$20,000 
B)  -$10,000 
C)  $ 0 
D)  $10,000 
E)  $20,000

Question 20

Berkeley Prints expects to have sales this year of $15 million under its current credit policy. The present terms are net 30; the days dales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5 percent. Also, Berkeley's cost of capital is 15 percent, and its variable costs total 60 percent of sales. Since Berkeley wants to improve its profitability, a proposal has been made to offer a 2 percent discount for payment within 10 days; that is, change the credit terms to 2/10, net 30. The consultants predict that sales would increase by $500,000, and that 50 percent of all customers would take the discount. The new DSO would be 30 days, and the bad debt loss percentage on all sales would fall to 4 percent.
-What would be the incremental bad debt losses if the change were made?

Accepted Answer

A)  $130,000 
B)  $250,000 
C)  -$250,000 (bad debt losses would decline) 
D)  -$130,000 (bad debt losses would decline) 
E)  $620,000 
A)  $130,000 
B)  $250,000 
C)  -$250,000 (bad debt losses would decline) 
D)  -$130,000 (bad debt losses would decline) 
E)  $620,000

Which of the following statements is most correct?

Assume you borrow $12,000 from the bank using a 10.19 percent "add-on", one-year installment loan, payable in four equal quarterly payments. What is the effective annual rate of interest?

What are the incremental pre-tax profits from this proposal?

Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent discount interest loan or a 10.19 percent add-on, one-year installment loan, payable in 4 equal quarterly payments. What is the effective rate of interest on the 10.19 percent add-on loan?

The percentage aging schedule of accounts receivable is the most robust way to see if customers are, on average, paying more slowly, because it is unaffected by seasonal changes in sales.

Which of the following is not correct?

A firm's credit policy consists of which of the following items?

The collection process, although sometimes difficult, is also expensive in terms of out-of-pocket expenses.

Seligstine, Inc.'s DSO was 31 days in March, and 45 days in April. Which of the following is NOT possible?

Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent discount interest loan or a 10.19 percent add-on, one-year installment loan, payable in 4 equal quarterly payments. What is the effective rate of interest on the 12 percent discounted loan?

An Overview of Financial Management

Risk and Return: Part I

Risk and Return: Part II

Bond Valuation

Basic Stock Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Financial Planning and Forecasting Financial Statements

Determining the Cost of Capital

Corporate Valuation and Value-Based Management

Capital Budgeting: Decision Criteria

Capital Budgeting: Cash Flows and Risk

Real Options

Capital Structure Decisions: Part I

Capital Structure Decisions: Part II

Distributions to Shareholders

Ipos, Investment Banking, and Financial Restructuring

Lease Financing

Hybrid Financing

Working Capital Management

Other Topics in Working Capital Management

Derivatives and Risk Management

Bankruptcy, Reorganization, and Liquidation

Mergers, Lbos, Divestitures, and Holding Companies

Multinational Financial Management

Filters

Exam 22: Providing and Obtaining Credit

Which of the following statements is most correct?

Assume you borrow $12,000 from the bank using a 10.19 percent "add-on", one-year installment loan, payable in four equal quarterly payments. What is the effective annual rate of interest?

What are the incremental pre-tax profits from this proposal?

Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent discount interest loan or a 10.19 percent add-on, one-year installment loan, payable in 4 equal quarterly payments. What is the effective rate of interest on the 10.19 percent add-on loan?

The percentage aging schedule of accounts receivable is the most robust way to see if customers are, on average, paying more slowly, because it is unaffected by seasonal changes in sales.

Which of the following is not correct?

A firm's credit policy consists of which of the following items?

The collection process, although sometimes difficult, is also expensive in terms of out-of-pocket expenses.

Seligstine, Inc.'s DSO was 31 days in March, and 45 days in April. Which of the following is NOT possible?

Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent discount interest loan or a 10.19 percent add-on, one-year installment loan, payable in 4 equal quarterly payments. What is the effective rate of interest on the 12 percent discounted loan?

An Overview of Financial Management

Risk and Return: Part I

Risk and Return: Part II

Bond Valuation

Basic Stock Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Financial Planning and Forecasting Financial Statements

Determining the Cost of Capital

Corporate Valuation and Value-Based Management

Capital Budgeting: Decision Criteria

Capital Budgeting: Cash Flows and Risk

Real Options

Capital Structure Decisions: Part I

Capital Structure Decisions: Part II

Distributions to Shareholders

Ipos, Investment Banking, and Financial Restructuring

Lease Financing

Hybrid Financing

Working Capital Management

Other Topics in Working Capital Management

Derivatives and Risk Management

Bankruptcy, Reorganization, and Liquidation

Mergers, Lbos, Divestitures, and Holding Companies

Multinational Financial Management

Filters